Grasim Industries: Buy:: Business Line

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Good outlook for the cement business, the company's profit driver, bodes well

Investors who want to bet on the recovery in the cement sector can consider the stock of Grasim Industries.

At the current price of ₹3,497, the stock discounts its estimated consolidated earnings of FY16 by 14 times. The stock is attractive on enterprise value basis too. If Grasim’s standalone business is valued at five times the earnings; the investment in UltraTech at 30 per cent discount to market price and its investment in other group companies at 50 per cent discount, the value per share is about ₹4,000.

UltraTech, a 60 per cent subsidiary of Grasim Industries, accounts for about 70 per cent of Grasim’s consolidated earnings. The outlook for the cement business is good, given that several new Government initiatives are likely to spur the investment cycle soon. The impending rate cut should stoke housing demand in urban and rural regions.

UltraTech Cement is the largest cement player in the country with an-all India presence and total capacity of 71 million tonnes after the recent acquisition of cement units of the troubled JP Associates.

Grasim’s VSF business is currently facing challenges, but its prospects are expected to improve over the long term. The company’s new capacities that are expected to commence production soon and its leadership position in the Indian market should help. A weak rupee is an added positive. In the half year of FY15, Grasim recorded a growth of 16 per cent in consolidated revenues. Profits slipped 15 per cent due to poor performance in the VSF segment. Drop in realisation plus higher input prices too played spoilsport.

VSF holds promise

Grasim’s VSF segment has been facing challenges since 2011 due to the correction in global cotton and VSF prices caused by over-supply in the market. Prices slipped further last April as the Chinese Government scrapped its cotton stock piling programme. China is the world’s top cotton buyer.

But one positive development is that VSF prices which moved to a discount to cotton prices a few quarters ago are on a par with the latter now. According to experts, the demand for comfort fabrics is expected to improve with recovery in global economy. VSF can then regain its premium over cotton prices.

The VSF segment contributes 24 per cent to revenues and 28 per cent to operating profits of Grasim. In the September quarter, the VSF segment recorded a 5 per cent increase in revenues and the operating margin was about 8.9 per cent, eight percentage points lower than last year. This was thanks to drop in realisation (VSF prices moved about 10 per cent lower over last year) and increase in the prices of some inputs.

Compared to the June quarter however, margins were up four percentage points, thanks to lower pulp prices and higher volumes.

In the near term, the VSF segment will derive its growth from higher sales, helped by the new capacities in Vilayat, Gujarat, that were added in the September quarter.

The new lines have increased the VSF capacity by 20 per cent. And gradually, as the company’s product mix changes with higher revenues from premium specialty fibre, the company’s operating margin will receive a boost.

Positive outlook

Cement demand should revive this year from the low single-digit growth in the last few years. Infrastructure and housing demand are likely to improve.

UltraTech has a national presence and its recent entry into Madhya Pradesh with the acquisition of two units of JP Associates should also help growth.

When demand for cement picks up, prices will also rise, buttressing margins for manufacturers. And as input (of coal and diesel) prices have also fallen sharply, there should be some savings at the operating level.

In the September quarter, Grasim’s earnings from the cement business jumped 34 per cent helped by increase in revenues and higher cement prices.

Sales volume increased by 10 per cent over the same quarter last year. Cement capacity was higher by 7.8 million tonnes per annum over last year, of which 4.8 million tonnes came from acquisitions made in Gujarat.